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The fallout from Brexit is matching MSCI’s scenarios
The U.K.’s decision to leave the European Union is reverberating across financial markets roughly in ways that MSCI anticipated it might.
At the close of business last Friday, changes in 10-year sovereign bond yields and equity returns across developed economies fell within the range of two scenarios modeled by MSCI: one in which the U.K. leaves the EU, adversely impacting its growth prospects as trade barriers go up, but little else happens, and another in which the U.K.'s leaving breaks up the eurozone. The reaction was consistent with pricing in a moderate scenario for the U.K. and the U.S., but possible contagion across Europe.
“It’s not every day that investors can compare a stress test with reality,” Thomas Verbraken, of MSCI’s risk research group, told investors in a webinar that the company convened on Monday to review Brexit and its immediate impact on investors. “For now the market is not pricing in a eurozone breakup,” he added.
That’s not to suggest there weren’t exceptions or that losses will not mount in coming days, Verbraken cautioned. Within a day of the referendum, equity returns of peripheral markets such as Greece, Spain and Italy hewed closer to the worst case Brexit modeled by MSCI, underscoring the severity of the reaction in countries that may have the most to lose economically.
If markets start pricing in a breakup of the eurozone that leads to an uptick in systemic risk, more losses could be expected. In this regard, investors should continue to monitor risk and stress test their portfolios.
“The aim is to illustrate how clients can use our framework and analytical tools to set up a meaningful stress test that incorporates their views,” said Verbraken, who noted that MSCI’s Macroeconomic Risk Model allows investors to vary their assumptions.
MSCI is a leader in stress testing, with analytical tools that offer investors insight into risk and its effect on multi-asset class portfolios.